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The Korean Budget System
(& Economic Development)
John M Kim, PhD
Head / PEMNA Center
Korea Institute of Public Finance
Overview
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Scope of “Public Finance”
“Public Finance” consists of 3 parts: Budgeting: Decision making about government expenditures (resource allocation)
Treasury: Taking care of government liquidity issues (cash flow and debt composition)
Revenue: Securing resources that can be used by government (taxes, etc.)
The current Korean budget system (including treasury) is the result of the Four Major Fiscal Reforms (2004 – 2006)
1. Medium-term Planning and Budgeting (National Fiscal Management Plan)
2. Top-down Budgeting
3. Performance-based Budgeting
4. Introducing an IFMIS (Digital Budget and Accounting System)
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The Nature of the 4th Reform
Actually originally conceived solely as an IFMIS project, before and independently of the others in the 4 Reforms Later integrated into the 4 Reforms when the budget system reforms were proposed
(4 Reforms = 3 + 1)
Upon which, the project subsumed the other issues indicated above
In retrospect, what was the 4th reform?
More than just an IFMIS, it was the “treasury-issues” reform (TCOP)
(but original conception of the DBAS project characterized it mainly as an IFMIS, the other tasks as just an auxiliary collection of related issues) Program budget classification system
Introducing accrual accounting
Revising the scope of the government reporting entity
And integrating existing information systems into the new DBAS
The other 3 of the 4 Reforms: “budget system” reforms (BCOP) Medium-term planning and budgeting
Top-down annual appropriations
Performance-based budgeting 4
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A Different Look at the 4 Reforms
Budgeting
… can be understood as the process of allocative decision-making
Budget Systems (BCOP)
… are the institutional infrastructure (procedures, rules, etc.) that facilitate budgeting as an activity
Treasury-related issues (TCOP)
… form the infrastructure to that infrastructure (budget systems), so that the latter can function effectively
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Understanding Korea’s Four Reforms (2004 – 2006)
Budget System Issues
Treasury Issues
Nordic Model of MTEF
1. MTEF
(NFMP)
2. Top-down
Annual
Appropriations
3. Performance-
based
Budgeting
4. DBAS (IFMIS as designed by BSP)
ISP (dBrain)
• ICT
• Financing
BPR
• Program Classification
• Accruals
• Scope of Government
• Full cost accounting
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BARO’s BSP as Originally Announced in November,
2004
2004 2005 2006 2007 &
2008
2009 onward
BSP
Sept - Nov
BPR & ISP
Feb - Aug
Develop DBAS
Oct 2005–Sept 2006
Full Deployment
Beginning July 1, 2007
Test &
Train
Jun - Dec
Change Management
(Training, etc.)
Determine new
budgeting and
accounting
framework
Come up
with overall
roadmap
BPR
Detailed
business and
process
redesign
ISP
Blueprint for
building IFMIS
Necessary
legal
reforms
Info sys. for
consolidated
budget
Info sys. for
central
government
budget
Linkage with
other
systems
Data
conversion
Testing
User training
Program
classification
(from 2008)
Accrual
reports and
audits
• Trial basis
from 2007
• Full accruals
from 2008
Adjust scope
of government
reporting
Budget
analysis
Integrate
performance
management
Full cost
accounting
Improved
budget and
accounting
management
Finished on schedule
Partial implementation
Postponed, later completed
Postponed 7
Dependencies among Components of the Four Reforms
Budget System Issues
Treasury Issues
Nordic Model of MTEF
1. MTEF
(NFMP)
2. Top-down
Annual
Appropriations
3. Performance-
based
Budgeting
4. DBAS (IFMIS as designed by BSP)
ISP (dBrain)
• ICT
• Financing
BPR
• Program
Classification
• Accruals
• Scope of Government
• Full cost accounting
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Tidying Up Loose Ends…
Integration with sub-national government accounts
Full integration ruled out, but information from sub-national governments fed into central IFMIS at aggregated level
Accruals
Full accrual reporting (financial statements) from 2012 (for FY2011)
Adjust scope of government reporting entity
Updated to 2008 SNA standards, but still awaits official implementation
Integrate performance management information
Performance management module added afterwards
Full cost accounting
Study commissioned recently for allocating overhead to programs
Advanced applications (analysis, etc.)
Later…
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Further Details...
• Korean budget at a glance
• The role of fiscal policy
• Key lessons from the Korean case
• The Korean budget system
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The Korean Budget at a Glance
Chart of Accounts* (FY2014, trillion Won)
● General Account: 201.6
● Special Accounts (18): 49.2
● Public Funds (54): 105.0
Total Consolidated Budget: 355.8 (4.0% increase)
Balance: 13.5 (1.0% GDP)
Adjusted Balance: -25.5 (-1.8% GDP)**
Government Debt: 514.8 (36.4% GDP)
* Gross amounts of accounts and funds are larger (figures above are
net of inter-account transactions)
** Excludes social security funds surpluses
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The Korean Budget at a Glance (2)
Budget Allocation (FY2014, trillion Won, % growth)
● R&D 17.7 5.1
● Industry, SME, Energy 15.4 -0.9
● SOC 23.7 -2.5
● Agriculture/Fisheries/Food 18.7 2.0
● Health/Welfare/Labor 106.4 9.3
● Education 50.7 1.9
● Culture/Sports/Tourism 5.4 7.7
● Environment 6.5 2.5
● Defense 35.7 4.0
● Foreign Affairs/Unification 4.2 2.3
● Security/Safety 15.8 5.1
● General Public Admin. 57.2 2.6
Total Spending Allocations: 355.8 4.0 12
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Budget Balance
-6%
-5%
-4%
-3%
-2%
-1%
0%
1%
2%
3%
4%
5%
-30
-20
-10
0
10
20
30
40
1970 1975 1980 1985 1990 1995 2000 2005
* Dark blue line shows consolidated budget balance in trillion won (left axis),
light blue line shows same balance as % of GDP (right axis)
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Government Debt
Debt (billion won) Debt (% GDP)
Debt Debt
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Composition of Key Expenditures (% of budget)
Health
& Welfare
Economy
Education
Defense
The Role of Fiscal Policy
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0
5.000
10.000
15.000
20.000
25.000
Per capita GDP in 1950s: about US$80 (among the poorest countries in the world)
$21,695 per capita in 2007
13th
largest economy in the
world
Five Year Economic
Development Plan
Growth in Per Capita GDP (US$)
6,742
Asian
Financia
l
Crisis
Around 8%
Above 10%
10,307
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Building the Korean Miracle
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Total Devastation after Korean War (1950 – 1953)
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Firing up the Growth Drive (1960s)
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President Park Chung-Hee took
power in a military coup in 1961.
He immediately launched
Korea’s economic growth drive
as his most important mission.
Implemented through a
consecutive series of 5-year
Economic Development Plans,
government spending was the direct means of allocating scarce
national resources (per capita GDP was around US$85) to key
investment decisions.
The overall strategy was to have government lead the growth drive by
a) Planning/coordinating the economy’s growth
b) Provide crucial infrastructure and/or initiate large-scale projects
c) Encourage the private-sector agents to participate actively
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Fiscal Policy in the 1960s
1st 5-year EDP: 1962 – 1966
Lay Foundation for Economic Autonomy
● Grow rural incomes through greater productivity
► Irrigation & waterways, better seeds, fertilizers, machinery
● Secure sources of energy (electricity, coal)
● Grow key industries and provide infrastructure
► Industrial complexes, highways, POSCO, shipyards
● Grow exports to improve trade balance
► From wigs, etc. to light industry (textiles, footwear)
● Foster technology
► Established KIST & other R&D institutes
Emphasis on results
● Systematically verified implementation / completion 21
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Fiscal Policy in the 1960s
2nd 5-year EDP: 1967 – 1971
Extend base for Economic Autonomy
● Food self-sufficiency, protecting forestry, growing fisheries
► SaeMaEul Campaign
● Invest in chemical, steel, machinery industries
● Grow exports to improve trade balance
● Foster technology
► Science & technology, plus management techniques
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Industrialization in the 1960s
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From Agricultural products to Industrial Products,
From Light industrial products to Heavy industrial products
1960 1970 1990 2000 1980
Heavy Chemical products
Agri-products
Light-industrial products
Wigs Autos Semi-conducts Textiles
2005
Mobile phones, Digital TV, Autos, Ships etc
83.1%
9.3%
1.1%
(ICT, 26.3%)
50%
100%
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How Exports Changed
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Challenges & Responses in 1960s
Fiscal space?
● Relied on US aid-in-kind up to early 1960s
● Set up institutions for better fiscal management
► Enacted Budget and Accounts Act and introduced Fiscal
Financing Special Account (SA) and Econ Development SA
► Founded National Tax Office to strengthen tax collection
● “Diverting” funds to key projects
► Kyungbu Expressway, POSCO, KIST
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1960s 1970s 1980s 1990s 2000s
Development
Stage
Factor-Driven Stage
Investment-Driven Stage
Innovation-Driven Stage
Competition Sources of
cheap labor manufacturing capability
innovative capability
Direction of
Industrial Policy
Exports-oriented light industries
Heavy and chemical
industries
Technology-
intensive industries
High-technology
innovation
Transition to knowledge-based
economy
Main contents
5-year Econ
Plan
-Less focus on
agriculture
-Heavy and
Petro-chemical
Industry
Development
Plan:
shipbuilding,
automobiles,
steel products.
5-year Econ
Plan
- Export-led
industrialization
policy.
Exported labor-
intensive
manufactured
goods, with
support from
government
policy
5-year Econ
Plan
-Korea's
industries
shifted to high-
tech industries :
Microelectronics,
(semi-
conductors,
mobile phones)
nano-tech, and
information
industries.
5-year Econ
Plan
-Focusing on ITs
(hard ware,
software)
- Fostering
Biology industries
-Liberalization of
financial market
MTEF and Long-
term visions
(5 strategies,
2 vehicles)
- Protect
Intellectual
Property Rights
-Focus on
building social
safety-net
Phases of Economic Development
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Asian Financial Crisis
1980 1960 1970 1995
5,000
10,000
1953
GNI per Capita (US$)
1990 1945
OECD Membership
1998 2007
15,000
20,000 Global Financial Crisis
2009
Development Era 5-year Economic Development Plans
67 79
11,735
7,607
100(1963) 1,043(1977)
21,695
17,175
2010
* Average growth rate during 1960~2010 : 7.5%
20,759
Post-crisis Economy 5-year MTEFs
?
Economic Growth, 1945 - 2010
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Fiscal Policy in the 1970s
3rd 5-year EDP: 1972 – 1976
Pursuit of Growth, Stability, and Balance
(introduction of VAT)
● Accelerate rural income growth
► SaeMaEul Campaign
● Accelerate export growth
● Build heavy and chemical industries
4th 5-year EDP: 1977 – 1981
Pursuit of Growth, Equity, and Efficiency
● Self-sustainable growth (improve trade balance and industry
structure)
● Social development (income distribution, living conditions)
● Foster technology and efficiency (address various distortions)
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Challenges after the 1970s
The two oil shocks by OPEC and President Park’s
death at the end of the 1970s left Korea facing a bleak
situation
● Chronic inflation, driven by high input cost of materials
● Unemployment
● Chronic trade deficit
Park’s successors (Chun, Roe, YS KIM, 1981 – 1998)
chose to move toward market principles and fiscal
prudence, then later toward liberalization (finance and
imports) and decentralization
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Challenges after the 1970s
As a result, fiscal balance improved dramatically
● New earmarked taxes, introduction of social insurance (1989)
● Controlled spending, plus Middle East construction and
recycling of petro dollars brought trade surplus
But liberalization and decentralization eventually
began to undermine stability, even as a government-
led mentality still pervaded all walks of society
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The Asian Financial Crisis and Its Aftermath
The Asian Financial Crisis of 1997 served as a wake-
up call, that Korea’s decades-old government-led
economy needed to move decisively further toward
modern institutions and systems
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• President Kim Dae-jung (1998 – 2003)
led a quick recovery from the crisis,
utilizing massive fiscal input into
restructuring (especially the banking
sector) and expanding the social
safety net
• President Roh Moo-Hyun (2003 – 2008)
modernized the budget system and
continued to expand spending in
social policy
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Responses to the World Financial Crisis
The World Financial Crisis of 2008 asked for massive
fiscal stimuli from all affected countries
● President Lee (2008 – 2013) authorized tax cuts and
temporary spending boosts (together coming to about 10% of
GDP)
● As a result, Korea’s economy had the best performance
among OECD countries against the WFC
► Full recovery, however, awaits the recovery of the world
economy
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Future Challenges
● Slowing growth and aging population
► Rising welfare (pension, healthcare)
costs
● Greater inequality in income distribution
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Key Lessons from the Korean Case
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Good Planning & Implementation
In many developed countries, the budget
authority is part of (or closely integrated
with) the government unit that is responsible
for strategic planning, ● Which facilitates realistic, properly-costed planning
But, developing countries often have
separate ministries for planning and
budgeting ● Annual budgeting will have a strong tendency to dominate
longer-term planning, rendering the latter ineffective
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The Korean Case
In the Korean case, planning and budgeting
were always in the same ministry
● Korea’s EPB (Economic Planning Board) was in
charge of the 5-year Economic Development
Plans and also the annual budget during the
economic development drive from the 1960s to
the 1990s
● In Korea the concept of planning itself includes
“planning to secure the necessary funding”
● (Planning, Budgeting, Revenues) were tightly
integrated with one another
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KOREA INSTITUTE OF
PUBLIC FINANCEStructure of Government (1962-1997)
President
Ministry of Finance
(Tax, Treasury, Finance)
Prime Minister
Other 15 ministries
Economic Planning Board (planning + budget):
Deputy Prime Minister for Economy
5-year Economic Planning
(1962-1996)
President
Ministry of Finance: Deputy Prime Minister for
Economy
(Finance, Budget, Treasury, Economic Policy, Tax)
Prime Minister
Other 15 ministries
1962-1993 1994-1998
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KOREA INSTITUTE OF
PUBLIC FINANCEStructure of Government (1998-2008)
President
Ministry of Finance and Econ
omy
(Tax, Treasury, Finance)
Ministry of Planning and B
udget
(Budget, Planning)
0ther 16 ministries
Prime Minister
①Long-term National Vision ②Medium-Term Expenditure Framework ③Performance-based budgeting system
President
Ministry of Strategy and Finance
(Budget, Economic Policy, Tax, Treasury, Internatio
nal Finance)
Other 14 ministries
Prime Minister
Presidential Council for Vision
and Future
Financial Services Com
mission
1998-2008 2008-Now
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Key Lessons
Even among developed countries, short-term annual
budgeting can often influence long-term or medium-
term plans, instead of the latter imposing discipline
on annual budgeting
For planning to be effective (vis-à-vis annual
budgeting), the Korean experience shows: 1) The government needs to assign its best people to planning, which
must be fully integrated with budgeting and revenue collection (taxes)
2) Give them appropriate incentives (e.g., remuneration and promotions)
3) Back them up with strong support from the top (President or Prime
Minister)
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The Korean Budget System
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The Korean budget system can be difficult to grasp
Probably closest to the French budget system, although the roots of
the present system can actually be traced back to the Japanese Meiji
government and von Bismarck’s Prussian/German model
● Very long history of centralized government run by elite bureaucrats
● Legalistic mindset that emphasizes ex ante logic and form
● But no “court of audits”
But emphasizes modern budget practices pioneered by
Commonwealth and Nordic countries ● Multi-year or medium-term expenditure frameworks (MTEF)
● Prudent economic assumptions
● Top-down budgeting techniques
● Relaxing central input controls
● Focus on performance and results
● Accruals & modern financial management
● Budget transparency
“Budget Reforms in OECD Countries: Some Common Trends,”
(Jon Blondal, OECD J. Budgeting, v2n4 )
And currently there’s some serious talk about moving closer to the US
system
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Some Background
Political form of government ● Semi-presidential system (France; US, Mexico, Finland)
► Bills for legislation can be proposed by both the administration and the legislature
● Uni-cameral legislature (National Assembly) ≠ parliamentary systems
► Much weaker vis-à-vis the administration than the US, but this has been changing in the
last decade or so
Legal tradition: follows civil law system (German-Roman) ● Need to have laws/rules/regulations defined before one can do anything
► Generally less room for discretion and “common sense” in public administration than in
common law systems
● Need to revise them before one can change anything
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Some Further Legal Aspects
Budget system defined by Constitution and National Fiscal Act ● 2-level hierarchy, like most countries (Constitutions + Laws of principally equal status)
► Public Finance Act → Budget and Accounting Act → National Fiscal Act
● US system: unique “patchwork” of laws
● French and German systems: 3-level hierarchies (organic, framework)
● “Unwritten” systems: UK and Commonwealth, Nordic
The Constitution says that
● The administration shall formulate, and the legislature shall review and approve
● The legislature may not increase (only cut) the total, nor may it add new spending items
to the administration’s proposed budget (same as France)
The budget is not a law, only a government plan that is approved ● Budget ≠ budget act only in Korea and Japan among OECD countries
● This means laws pertaining to budgeting will be strongly binding
The law used to define budgeting as strictly annual
● Consequently, there was (and still is) no conceptual distinction between authorization
and appropriation (there is only “budgeting”)
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Odds and Ends
Key actions and decisions take place almost entirely within the
administration, especially between the budget office and line
ministries during formulation
● But the legislature has been steadily gaining in influence, especially after
founding NABO (the only sizable congressional budget office besides CBO)
The fiscal year coincides with the calendar year
The budget proposal must be “submitted” to the NA 90 days
before (Oct. 2) the start of the fiscal year
If the NA fails to approved the budget by the start of the fiscal
year, the administration may draw up and execute a “quasi-
budget,” that allows spending at the previous year’s rate. This
has never happened since independence in 1948 (though some
budgets have been passed with just seconds left before the new
year)
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Odds and Ends, continued
Budget cycle
● FY-1
► March: Budget preparation guidelines (like OMB’s A-11)
► May: Resource Allocation Meeting (determine ceilings)
► July – Sept: Budget requests / negotiations / Cabinet approval
► Oct 2: Transmission to NA
► Year-end: Approval by NA
● FY: execution, with monthly/quarterly apportionment & allotment
● FY+1
► Closing reports submitted to NA by end-May
(ministries → MoSF → B. Audit & Inspection → MoSF → NA)
Chart of Accounts
● General Account
● Special Accounts (18): Post office, Environment improvement, etc.
● Funds (54): National Pension, National Health Promotion, etc.
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Evolution of the Korean budget system
Korea’s old system: reasonably good, but lacked virtually all
modern/advanced features
● System remained basically the same from 1948 to the Asian
financial crisis of 1997
► Very traditional line-item, annual, bottom-up budget
► Zero-based budgeting attempted briefly in 1980s
► Reforms usually meant consolidating special accounts and funds,
which have a tendency to proliferate over time
The 4 Fiscal Reforms (2002 – 2007) modernized Korea’s budget
system almost overnight
● Medium-term framework coupled tightly to annual appropriations
through top-down budgeting
● Built performance-based system, adopted US PART
● Switched to program budget structure
● Accrual accounting for final reports
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Multi-year Budgeting…
… is ensuring that multi-year considerations are adequately reflected in
the annual appropriations process
● Does one need a distinct, stand-alone multi-year budget or plan?
Formal Frameworks for Multi-year Budgets
● Sweden: Firm total ceiling fixed 3 years ahead, is binding ex post
● UK: (Comprehensive) Spending Reviews (biennial budgeting)
● France?: multi-year appropriations
Multi-year budgeting as an integral part of annual appropriations
● US system:
► Legislature:
– Budget resolution has multi-year envelopes, but not effective in controlling
multi-year total expenditure
– Employs various point-of-order resolutions to restrict increases in
mandatory spending (direct spending)
► OMB: requires 10-year projections in line-ministry budget requests
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National Fiscal Management Plan (Korea’s MTEF)
5-year plan to present national policy visions and directions
● Fiscal management from a medium-term perspective
● Rolling plan that is revised annually
● Annual budget must respect sector ceilings set in NFMP
Main contents
● Total expenditure ceiling (multi-year)
● Sectoral and ministerial resource allocation plans (multi-year sub-
ceilings)
● Also includes narrative discussions on:
► National policy directions & priorities
► Medium-term fiscal management outlook
► Economic forecast & fiscal targets (budget size, balance, debt, etc.)
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What is Top-down Budgeting?
It is not: Bottom-up Budgeting
● Traditional way of budgeting
● Sum of ministry budgets Total budget
► Difficult to control aggregates (total budget, deficit)
► Difficult to control allocation among major sectors
– Defense vs. pollution control vs. infrastructure, etc.
● Additional Problems
► Focus on annual numbers (myopic)
► Inefficient process
– Iterative negotiations (game-playing & g for totals)
– Inability to utilize ministries’ expertise
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What is Top-down Budgeting? (2)
It is: Budgeting in 2 Steps
① Ceilings (aggregate numbers)
1) Decide total spending & deficit levels (agg. ceiling)
2) Decide allocation among major policy areas (sectoral
ceilings: about 30)
– Defense vs. pollution control vs. infrastructure, etc.
② Intra-sectoral allocations (details)
1) Ministry/agency budgets
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Purpose of Top-down Budgeting
Improve micro-efficiency
① Efficient in time and effort (no more over-bidding)
② Utilizes ministries’ expertise (best use of limited
resources)
Better macro results
① Effective for fiscal consolidation
② Ensures spending is aligned with priorities
③ A key tool for enforcing MTEF (NFMP) decisions
(ceilings are usually multi-year limits: Korea, Sweden,
Norway, UK)
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Example of linking multi-year plans to the annual budget (Sweden)
Current Year (n)
Plans for Future Years
n+1 n+2 n+3
2014
FY 2015
•Total Ceiling Fixed
•Finalize 27 sect. ceilings
and annual budget
FY 2016
•Total Ceiling Fixed
•Adjust 27 sect. ceilings
using budget margin
FY 2017
•Total Ceiling Fixed
•Set 27 Sect. Ceilings
+ budget margin
2015
FY 2016
•Total Ceiling Fixed
•Finalize 27 sect. ceilings
and annual budget
FY 2017
•Total Ceiling Fixed
•Adjust 27 sect. ceilings
using budget margin
FY 2018
•Total Ceiling Fixed
•Set 27 Sect. Ceilings
+ budget margin
2016
FY 2017
•Total Ceiling Fixed
•Finalize 27 sect. ceilings
and annual budget
FY 2018
•Total Ceiling Fixed
•Adjust 27 sect. ceilings
using budget margin
FY 2019
•Total Ceiling Fixed
•Set 27 Sect. Ceilings
+ budget margin
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Building a performance-based budgeting system
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Performance
Budgeting
(Pilot Project)
Performance
Management Self-Assessment of
Budgetary Program
(K-PART)
In-Depth
Evaluation
•Developed Strategic
Goals, Performance
Objectives and
Performance
Indicators
•Designed after
GPRA
•1/3 of major budgetary
programs are
evaluated every year
•Designed after PART
•Selected programs
are subject to
program evaluation
•Expanded
“Performance
Budgeting” to 26
Ministries/agencies
•Annual performance
plans and reports are
required
’00 - ’02 ’03 - ’05 - ’06 -
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Program Budgeting
Uses “program classification,” which organizes
budget classification hierarchy by purpose/function
of spending
Hence basic unit is the “program,” defined as
individually comprehensive and mutually exclusive
set of all government activities that contribute to the
same policy end
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Linking Planning and Budgeting
Long-term, medium-term, and annual budgeting must all use program classification
● Ties together purpose/objective and resource allocation
● Focuses on total available/allocated resources for a policy area, regardless of funding source or account
● Linkage between objective and resources also makes program budgeting a natural for performance management
Note that program classification may be more difficult than it seems, because existing organizational structures and “turfs” may actually take precedence…
● making the organizational budget classification the primary classification
● But, good program budgeting requires that the organizational structure should follow the program classification
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Accruals has begun…
From FY 2009, government accounting and annual reports
adopted accruals
● After a 2-year pilot phase (FYs 2009 & 10),
● FY 2011 financial reports (in 2012) to legislature will switch to full
accruals
● Recently “upgraded” reporting of pension superannuation provisions
Budgeting (formulation) will remain on a cash basis
This affects only part of the annual reports
● “Closing reports” to legislature formally discharge government from
duty to execute the budget (similar to Germany)
► Closing Summary
► Revenues and Expenditures (by account)
► Financial Statements
– Balance sheets, Income statements, Net asset value change
statements
► Performance Reports 55
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This ends the presentation
Thank You!